Classifications of Costs

Cost vs. Expense

Costs are resources given up to achieve an
objective.

Expenses are costs that have been charged

against revenue in a specific accounting
period.
Product vs. Period Costs
In addition to the classification of costs
based on their behavior as production
changes, costs can also be classified
according to their purpose.
Product Costs
Product costs, or inventoriable costs, are
those costs that go directly into the
production process, without which the
product could not be made.
1. Direct material
2. Direct labor
3. Manufacturing OH
Groupings of Product Costs
Prime costs = DM + DL
Manufacturing costs = Prime costs +
Manufacturing OH applied
Conversion costs = Manufacturing OH + DL
Period Costs
Period costs, as compared to product costs,
are costs for activities other than
production of the product.
• For financial reporting they are
expensed.
• For internal decision making that may be
allocated to production departments.
Costs Based on Production
Variable costs
Fixed costs
Mixed costs
Variable Costs
Costs such as material and labor that are
incurred only when a product is made.
• The per unit variable cost remains
unchanged as production increases or
decreases.
• Total variable cost increases as
production increases and decreases as
production decreases.
Fixed Costs
Fixed costs do not change within the relevant
range of production.
• As long as the production volume remains
within the relevant range, the total amount
of these costs does not change with a
change in production volume.
• The cost per unit decreases as production
increases and increases as production
decreases.
Mixed Costs
Mixed costs have both a fixed and a
variable component.
• A semi-variable cost is a small fixed
amount plus a variable amount
• A semi-fixed cost stays fixed for a given
range then jumps to the next highest
level where it is fixed for a while, and
then jumps again.
Example: The nursing staff in a hospital is an example of a semi-
fixed cost. The hospital needs one nurse for every 25 patients, so
each time the patient load increases by 25 patients an additional
nurse will be hired. When each additional nurse is hired, the total
cost of nursing salaries jumps by the amount of the additional
nurse’s salary.
In contrast, hospital administrative staff salaries remain fixed until
the patient load increases by 250 patients, at which point an
additional admitting clerk is needed. The administrative staff
salaries are wholly fixed costs over the relevant range, whereas
the nursing staff salaries are semi-fixed costs because the
relevant range for the administrative staff (250 patients) is greater
than the relevant range for the nursing staff (25 patients).
Total Costs
y = F + Vx

y = total costs
F = fixed costs
V = variable costs
x = total production
Direct vs. Indirect Costs
Direct costs can be traced directly to a
specific cost object.

Indirect costs are costs that cannot be

identified with a specific cost object.
Other Cost Terms
Explicit costs
Implicit costs
Opportunity costs
Carrying costs
Sunk costs
Committed costs
Discretionary costs
Marginal costs
Cost of Goods Sold
Cost of beginning finished goods
inventory
+ Net cost of purchases (for a reseller) or
+ Net cost of goods manufactured (for a
manufacturer)
− Cost of ending finished goods inventory
= Cost of goods sold
Cost of Goods Manufactured
More accurately called:

Cost of FINISHED Goods Manufactured

Cost of FINISHED
Goods Manufactured
The COGM represents the cost of the units
completed and transferred out of work-in-
process during the period.
Cost of FINISHED
Goods Manufactured
Cost of direct materials used in the period
+ Cost of direct labor used
+ Manufacturing overhead applied
= Total manufacturing costs
+ Cost of beginning work-in-process inventory
− Cost of ending work-in-process inventory
= Cost of goods manufactured